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Is GW Pharmaceuticals Just an Overhyped Marijuana Stock or a Future Biotech Giant?

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Investing in marijuana stocks is not for the squeamish. Pot stocks typically sell over-the-counter, trade for less than a dollar per share, and are heavily manipulated by pump-and-dump traders. The entire sector has become a playground for traders to turn quick profits and speculate on marijuana legalization politics, meaning that marijuana stocks are generally very risky for the average investor.

However, one marijuana stock has emerged from the pack as a legitimate company with real products and genuine profitability potential. The company is GW Pharmaceuticals (GWPH) , a UK-based company that uses cannabinoids from the cannabis plant to develop prescription medication. Each cannabinoid has their own potential treatment and therapeutic target, and GW Pharmaceuticals is exploring all of them.

GW Pharmaceuticals’ mission is to extract beneficial ingredients from cannabis, apply them to medical treatments, and seek federal approval for their drugs through traditional methods. Its main product is Sativex, an oral spray that treats Multiple Sclerosis (MS) symptoms and cancer pain. Sativex has launched in 11 countries and is approved in 13 others.

GW Pharmaceuticals' CEO Justin Gover told Equities.com in 2013 that science and standardization is imperative to the company. “The application of science is fundamentally important and the rigors of an FDA approval process should be appropriate for patients who are sick and deserve medicines to make themselves better, and just because one is filled of cannabinoids, or cannabis, that those principles should still apply,” Gover said.

Since its IPO in May 2013, GW Pharmaceuticals is one of the best performers in the NASDAQ. Shares are up almost 1000% after a barrage of upgrades, encouraging trial results, and new products in the pipeline. The company is now valued at $1.4 billion.

With such astronomical gains over a short period of time, is GW Pharmaceuticals poised to dominate an unexplored drug market? Or is the company part of a marijuana bubble waiting to pop? Both the bull and bear sides are sure to battle it out in the coming months and years, taking investors along for a wild ride.

Bull Case for GWPH

Sativex poised for approval: Sativex is currently in Stage III trials with results anticipated for the second half of 2014. Given that the drug has already been approved in over 20 countries and was awarded fast track designation by the FDA, many expect Sativex will soon be approved for production in the U.S. and could reach almost a billion dollars in sales.

Many people with cancer or MS already use marijuana to treat their symptoms. Yet, there seems to be something more appealing about ingesting a spray or a pill than smoking a joint or eating a pot brownie. Marijuana comes in many different strains and doses, making each use a little bit different. Thus, Sativex could ultimately replace traditional marijuana as a treatment for such diseases because it is reliable and effective.

Strong pipeline: GW Pharmaceuticals is also working on a drug called Epidiolex, a cannibidiol (CBD)-based treatment for rare forms of epilepsy. Epidiolex was tested on 27 children and young adults with treatment-resistant epilepsy over a 12-week period. The drug provided “promising signals,” reducing seizure frequency in over 50% of patients. A portion of these patients was even seizure-free by the end of the 12-week period.

Epidiolex is administered as a fruit-flavored syrup and does not contain any THC, the active ingredient that makes marijuana smokers high. Phase II and III trials are set to begin in the second half of 2014 and Gover expects Epidiolex will be ready for submission to U.S. and European regulators in 2016. The FDA has awarded the drug fast track designation.

GW Pharmaceuticals is also exploring cannabinoid-based treatments for autism and psychiatric diseases, another key component of its pipeline to watch in the coming years.

Enormous market potential: As a treatment for cancer pain and MS cramps, the potential market for Sativex is enormous. Gover estimates that 400,000 American patients believe they do not receive adequate treatment from morphine and other opioids. If approved, Sativex would be a relatively affordable, effective substitute for traditional pain medications.

Meanwhile, epilepsy currently affects approximately 750,000 Americans and millions more worldwide. Traditional epilepsy treatments typically impose harsh side effects, while GW Pharmaceuticals’ Epidiolex has been “well tolerated” within study patients. With the drug entering Stage II/III trials, investors are hopeful that it could be a multi-billion dollar drug with valuable exclusivity patents.

Minimum competition, possible takeover target: Given that marijuana is illegal under federal law, American drug companies may not test the drug as a potential medicine. GW Pharmaceuticals is exempt from these laws because the company is based in the United Kingdom, but can still seek U.S. approval. Therefore, pharmaceutical giants like Pfizer (PFE) , Biogen (BIIB) , Bristol-Myers (BMY) , Celgene (CELG) , and many others cannot explore similar treatments. They could even seek to buy out the company if they are excited by the prospect of cannabis as a potential medicine.

Bear Case for GWPH

Negative social stigmas: Marijuana remains federally illegal and legalized in only two states. Thus, there remain negative social stigmas surrounding the use of marijuana-based substances as medicine. In reality, there is a significant difference between using cannabinoids as treatment and smokable/ingestible marijuana. However, it may be hard for GW Pharmaceuticals to convey this difference to patients.

Regulation: GW Pharmaceuticals grows its own cannabis at an undisclosed, computer-controlled facility in the south of England where its drugs are tested, manufactured, and exported. GW Pharmaceuticals would benefit greatly from a facility in the United States, but with marijuana production federally illegal, GW Pharmaceuticals will continue to operate from England.

This isn’t a huge issue, but nonetheless represents some of the legal issues GW Pharmaceuticals will surely face given marijuana’s status as an illicit drugs in many countries worldwide.

Licensing limits upside: GW Pharmaceuticals has licensed its Sativex UK marketing rights to Bayer. It has also licensed the rights to commercialize Sativex in Africa, parts of Asia, and the Middle East to Novartis. Its upside on the drug, therefore, is partially limited due to these licensing agreements.

Drug approval and valuation risks: Many believe that GW Pharmaceuticals has garnered unwarranted attention because it uses cannabis, a controversial substance, to produce treatments. If GW Pharmaceuticals is indeed a normal pharmaceutical company, bears make the case that the stock grossly overvalued compared to its peers. Revenue may only come in at $50 million this year. If Sativex does not win FDA approval, GW Pharmaceuticals is surely overvalued at $1.4 billion – almost 30 times revenue.

Who’s Right?

GW Pharmaceuticals is a legitimate pharmaceutical company with intriguing drugs in the pipeline. Its exploration of cannabinoids could prove to revolutionize the way cancer, MS, autism, epilepsy, and psychological diseases are treated. Thus, the excitement surrounding the stock is warranted, and GW Pharmaceuticals will keep rising if analysts continue to upgrade the stock and clinical trial results continue to indicate promise.

However, the fate of the stock depends on the FDA’s approval decision on Sativex. GW Pharmaceuticals does not sell nearly enough of the drug outside the U.S. to warrant a $1.4 billion valuation, and with Epidiolex still in relatively early stages in development, Sativex’s approval for use in the United States is crucial.

Therefore, GW Pharmaceuticals should be treated as an exciting, legitimate pharmaceutical company with promising and proprietary drugs in the pipeline. It is in a class of its own compared to other cannabis-related stocks, but should still be regarded as a risky small-cap pharmaceutical investment.

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